Losses and Caution

The last few months have been tumultuous. After 3 consecutive winning positions in 3D systems (DDD, long, short, then long again), a large speculation in Tesla Motors (TSLA), and a large winning position in the USDJPY, I was up more than 70% for the year.

I took this as a sign that my ideas were working. The logic I was using made me believe that the moves in the USDJPY would continue, and, in fact, strengthen, on the basis of a stronger trend in Japanese growth leading to optimism about Abenomics. However, I left myself vulnerable by not managing my risk very well.

By upping my position in the USDJPY at a higher level, I left myself with a worse buy-in price. This subsequently led to large losses when the dollar became weaker. I also failed to realize the correlation between the Nikkei and the weaker yen. Investments in Japan by large international institutions are hedged against currency depreciation by buying the USDJPY. Thus, when institutions began to pull out of Japan on the back of a normal correction (a test-period for the Abenomics trend), the USDJPY fell as well.

In addition, the US Dollar became increasingly volatile because of these large bets. Because international investments in the US lead the US Dollar to correlate with the US Stock Market, a decline in world-wide equities amplified the fall of the USDJPY in two ways – a weaker dollar and a stronger yen.

This led to two subsequent losses in the USDJPY. I made a third mistake by over-leveraging. After taking a loss, it is best to take a step back, re-evaluate, and start again with smaller positions. However, I did not learn my lesson – my earlier gains in the year left me too cocky.

I then moved on to short 3D Systems. This was not a bad technical play – two analysts had turned against the stock, and the growth rate is slowing enough to make the P/E look ludicrous. In addition, there was a setup for a technical correction on May 14-16. I thus set my bets – but again made the mistake of overleveraging. My over-confidence led me to over-look something else as well – the technical setup of a flag formation, as the stock constantly bumped up against the May 14 high. Eventually the stock broke out, and I took my third loss for the year.

I finally came to my senses and stopped the bleeding. I ended the losses, and I still maintained a modest profit overall for the year, something in excess of 10% – not terrible, but small in comparison to the run in the S&P. Now the time has come to re-evaluate. I have made some small speculations on the China recovery and a small short on ExOne’s fall. The latter is something that I believe will sustain itself for some time, as momentum changes directions. In other words, I believe that ExOne has begun a turnaround.

3D Systems will eventually be a good short, but the technicals have to be set up correctly. It will be tricky to decide the appropriate amount of leverage to use, and the timing of the play. I believe the pessimism is growing, and the risk-reward to shorting is favorable (even now), but my own weakened position leaves me vulnerable to even small risks right now.

I have also been lucky enough to salvage some additional profits from my bets in Penn West Virginia (PVA), C&J Energy (CJES), and BNCCorp (BNCC). These plays may eventually bear fruit after a long waiting period.

The losses were hard to bear, but they have given me caution and sharpened my wits. With these new tools, I plan to proceed with a more modest approach to my investments.